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On Pricing and Hedging the No‐Negative‐Equity Guarantee in Equity Release Mechanisms

Johnny Siu‐Hang Li, Mary R. Hardy and Ken Seng Tan

Journal of Risk & Insurance, 2010, vol. 77, issue 2, 499-522

Abstract: In a roll‐up mortgage, the borrower receives a loan in the form of a lump sum. The loan is rolled up with interest until the borrower dies, sells the house, or moves into long‐term care permanently. The house is sold at that time, and the proceeds are used to repay the loan and interest. Most roll‐up mortgages are sold with a no‐negative‐equity guarantee (NNEG), which caps the redemption amount at the lesser of the face amount of the loan and the sale proceeds. The core of this study is to develop a framework for pricing and managing the risks of the NNEG.

Date: 2010
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Handle: RePEc:bla:jrinsu:v:77:y:2010:i:2:p:499-522